End of Story, Morning Glory?

The United Arab Emirates (UAE) is experiencing the antithesis of the “Dubai Chalo” mantra of the ’60s and ’70s. Dubai is likely the shed 10% of its population over the next two years, as a result of unmanageable debt, failing businesses and shrinkage of property values. This is only to be expected — unsound economics have driven Dubai’s growth in recent years. Unlike other states in the Arabian Peninsula, Dubai has no oil of its own. Indeed, from the emirati pearl merchants of the early 1900s to the establishment of the Jebel Ali Port in the 1970s, its historic strength has been trade.

However, the single minded pursuit of turning this free-trade town into a megacity rivaling New York or Los Angeles is as bad an idea today as it was when it was conceived. And now, conservative but oil-rich Abu Dhabi, who many said was slow off the mark in this maddening real estate circus, is having the last laugh. The Maktoums of Dubai have had to had to swallow their pride and approach Abu Dhabi to bail them out. But even Abu Dhabi’s bailout of Dubai comes with strings attached:

[T]he rapid deceleration had given rise to speculation that Abu Dhabi, the richest member of the UAE, might have to bail out its flashier neighbour. Rumours spread that Abu Dhabi would only stump up the cash if Dubai ceded control of its successful airline, Emirates.

Federal support has come through folding Dubai’s troubled mortgage companies into well-capitalised Abu Dhabi banks. There have been other direct discussions between Dubai and Abu Dhabi state companies, although none has reached agreement.

Sheikh Mohammed’s Dubai International Capital fund, whose assets have shrunk sharply, briefly courted investment from Mubadala, the Abu Dhabi investment arm. No substantive discussions ensued, people close to the matter say, but the incident fuelled rumours of a bail-out. Well before the credit crisis raised questions about Dubai’s solvency, Mubadala and Dubai Aluminium had been discussing equity restructuring of their joint venture, Emirates Aluminium, a vast smelter on the Abu Dhabi/Dubai border.

What Dubai needs to do now is to rightsize. New York City was not built overnight. Even if NYC’s economy relies heavily on financial markets, these markets trade against tangible products — from the pharmaceuticals of New Jersey, to the automobiles of Detroit. Dubai’s financial markets trade in recycled financial instruments, which have a tendency to flourish during the good times, and falter during the bad. This blogger also feels that Dubai (and the UAE as a whole) needs to address debt insolvency. Given that foreigners and foreign owned entities form the majority of Dubai’s demographic and economic footprint, a credit history check system such as the one in the United States would be ineffective. Yet, there is an urgent need to address the frequency with which expatriates and foreign-owned companies run up substantial debt and abscond from the country. The current economic crisis in Dubai is as much a result of a nonexistent debt reconciliation system, as it is due to building artificial islands, skyscrapers and magical kingdoms that no one could afford.

The one benefit of an Abu Dhabi bailout might be that the UAE would start functioning more like a federation with a visible nucleus (Abu Dhabi) than the disagreegated collection of city-states that it now is.